Modeling Price Volatility for Selected Agricultural Commodities in Ethiopia: The Application of GARCH Models

Abstract The purpose of this study was to model and forecast volatility of returns for selected agricultural commodities prices using generalized autoregressive conditional heteroskedasticity (GARCH) models in Ethiopia. GARCH family models, specifically GARCH, threshold generalized autoregressive conditional heteroskedasticity (TGARCH) and exponential generalized autoregressive conditional heteroskedasticity (EGARCH) were employed to analyze the time varying volatility of selected agricultural commodities prices from 2011to 2021. The data analysis results revealed that, out of the GARCH specifications, TGARCH model with Normal distributional assumption of residuals was a better fit model for the price volatility of Teff and Red Pepper in which their return series reacted differently to the good and the bad news. The study indicated the presence of leverage effect which implied that the bad news could have a larger effect on volatility than the good news of the same magnitude, and the asymmetric term was found to be significant. Also, TGARCH model was found to be the accurate model for forecasting price return volatility of the same commodities, namely Teff and Red Pepper. In short, the study concludes that TGARCH was to be the best fit to model and forecast price return volatility of Teff and Red Pepper in the Ethiopian context.